The False Promise of Protectionism: Why Trump's Trade Policy Could Backfire
Author(s): Douglas A. Irwin
Source: Foreign Affairs, Vol. 96, No. 3 (MAY/JUNE 2017), pp. 45-50, 51-56
Published by: Council on Foreign Relations
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The False Promise of
Protectionism
Why Trump's Trade Policy Could Backfire
Douglas A. Irwin
that economic nationalism would be the hallmark of his trade
In policy. thatpolicy.
his economic inaugural"We
"We must nationalism
must address,protect
protect U.S. our wouldour
borders President
bordersbe the from Donaldfrom
hallmark the ravages
the Trumpravages
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trade other
countries making our products, stealing our companies, and destroying
our jobs," he said. Within days, he withdrew the United States from
the Trans-Pacific Partnership (tpp), announced that he would rene-
gotiate the North American Free Trade Agreement (nafta), and threat-
ened to impose a special tax on U.S. companies that move their
factories abroad.
Although Trump's professed goal is to "get a better deal" on trade, his
brand of economic nationalism is just one step away from old-fashioned
protectionism. The president claimed that "protection will lead to
great prosperity and strength." Yet the opposite is true. An "America
first" trade policy would do nothing to create new manufacturing jobs
or narrow the trade deficit, the gap between imports and exports.
Instead, it risks triggering a global trade war that would prove
damaging to all countries. A slide toward protectionism would also
undermine the institutions that the United States has long worked to
support, such as the World Trade Organization (wto), which have
made meaningful contributions to global peace and prosperity.
At the same time, not all tariffs are bad. Congress is considering corpo-
rate tax reforms that would involve a "border adjustment tax" - a tax
that would apply to all imports to the United States but not to exports.
If implemented fairly, such a measure would not be protectionist.
DOUGLAS A. IRWIN is Professor of Economics at Dartmouth College and the author of
the forthcoming book Clashing Over Commerce: A History of U.S. Trade Policy . Follow him
on Twitter @D_AJrwin.
May/June 2017 45
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Douglas A. Irwin
Likewise, not all trade threats are bad. Although it is true that closing
the market to foreign competition is the wrong way to improve U.S.
economic performance, the threat of closing the market has some-
times helped ensure compliance with international trade rules. But
this is a high-risk strategy that must be used with care, since it could
spark damaging foreign reprisals.
It is all the riskier given the growing nationalist sentiment around
the world. According to the wto, the import restrictions imposed by
G-20 countries since 2008 now cover a disturbingly high 6.5 percent of
their merchandise imports. The rate at which new measures are being
imposed exceeds the rate at which old measures are being removed,
resulting in the steady accumulation of
trade barriers. In January, citing "protec-
The Trump administration
tionist pressures," the World Bank
must recognize that reduced its forecast for global economic
protectionism at home can growth in 2017.
In this environment, a move toward
lead to protectionism abroad.
protectionism by Washington could
unleash a similar response abroad. Such
a scenario has a historical precedent: when Congress passed the
Smoot-Hawley Tariff Act in 1930, it was taken as "the signal for an
outburst of tariff-making activity in other countries, partly at least by
way of reprisals," as a League of Nations report explained at the
time. Washington should not send that signal again.
As the Trump administration plots its next move, it should take
care to distinguish between what trade policy can achieve and what
it cannot, and between changes to current policy that would be
constructive and those that would prove counterproductive. It must
also recognize that protectionism at home can lead to protectionism
abroad. Indeed, perhaps the greatest danger of Trump's trade policy
is that a misstep might do irreparable damage to the open world
trading system that the United States had, until now, so assidu-
ously promoted since World War II. That system constrains the
policies of the 163 other wto members, with which the United
States trades. If the United States backs away from current trade
rules, those countries will feel free to discriminate against the
United States, and the system will unravel - doing grave damage
not only to the global economy but also to the very Americans
Trump claims to represent.
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The False Promise of Protectionism
THE PERILS OF PROTECTIONISM
Although free trade is always under fire, the barrage has been particu-
larly intense in recent years. U.S. politicians often blame trade for the
loss of manufacturing jobs and the destruction of the middle class, and
many voters seem to agree. It was Trump's willingness to acknowledge
the "rusted-out factories scattered like tombstones across the landscape
of our nation" and to question establishment views on trade agreements
that won him support in the Rust Belt.
But the reality is that factors other than foreign trade are to blame
for the country's current economic woes. The share of Americans who
work in manufacturing has fallen steadily since the early 1950s, mainly
due to automation and productivity growth. The labor-force partici-
pation rate among working-age males has been declining since 1960.
The stagnation in real earnings of men also dates back to the early
1960s. These trends started well before the era of deregulation and
free trade in the 1980s and 1990s, let alone the "China shock" of the
first decade of this century. Complaints about the plight of middle-
class workers resonate so much today, however, because the U.S. labor
market has experienced more than a decade of lackluster performance,
owing to the slow recovery from the 2008 financial crisis. Since then,
trade has not significantly disrupted the U.S. labor market because
imports have not been surging into the country.
The problem with wrongly blaming trade for these recent difficulties
is that it makes it all too easy to propose protectionism as the quick
fix. After all, if imports are seen as the problem, then reducing them-
by reversing existing trade policies, tearing up nafta, or slapping high
duties on Chinese goods- would seem to be the solution. Yet simply
rolling back trade will not repair the damage that has been done.
Those who want to curtail trade claim that such actions will revitalize
basic manufacturing industries, create new manufacturing jobs, and
reduce the trade deficit. In fact, higher trade barriers would fail to
achieve any of these objectives.
Why can't trade protection be used to revitalize basic industries
that have suffered? After all, some claim, in the 1980s the Reagan
administration imposed many import barriers, which seemed to
help domestic industries cope with increased foreign competition.
Confronted with a large and growing trade deficit, the United
States pressured Japan to agree to reduce its automobile exports,
forced foreign suppliers to limit their steel exports, and negotiated
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Douglas A. Irwin
a new arrangement that restricted imports of textiles and apparel.
Because the economy recovered and employment grew, Robert
Lighthizer, a trade negotiator in the Reagan administration whom
Trump has tapped to be the U.S. trade representative, has asserted
that Reagan-era import restrictions "worked."
But that judgment runs counter to the evidence. In a 1982 report,
the U.S. International Trade Commission found that most industries
receiving trade relief were undergoing long-term declines that import
restrictions could not reverse. Such measures did little to help companies,
it stated, "either because so much of the firm's injury was caused by
non-import-related factors, or because the decline of imports following
relief was small." Four years later, when the Congressional Budget
Office studied the question, it concluded, "Trade restraints have failed
to achieve their primary objective of increasing the international
competitiveness of the relevant industries."
Just as it is today, trade then was wrongly blamed for the prob-
lems facing U.S. producers. What really afflicted them were fac-
tors beyond the reach of trade policy. The first was a cyclical
problem: the severe recession in 1981-82 that resulted
/yy " from the tight monetary policy the U.S. Federal Reserve
/V, had adopted to reduce inflation. That policy contributed
Ah
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The False Promise of Protectionism
to a 40 percent real appreciation of the dollar against other currencies
between 1981 and 1985, making U.S. -made goods far less competitive
at home and abroad. Then there were various structural problems:
Big Steel lost market share to low-cost domestic mini-mills that
could recycle scrap metal, and the Big Three automakers were
slow to improve quality and shift to the smaller, more fuel-efficient
cars that consumers were demanding. Eventually, U.S. producers
did regain their competitiveness, but they did not do so thanks to
protectionist policies. Credit goes instead to the economic recov-
ery that started in 1983 and the weakening of the dollar that
started in 1985.
One should look back at the Reagan-era protectionism not with
nostalgia but with regret, because it proved to be a costly failure.
The restrictions on automobile imports raised the average price of
a Japanese car by 16 percent in the early 1980s, socking it to con-
sumers and handing billions of dollars to Japanese exporters. The
limitations on steel imports punished steel-using industries, and
those on textile and apparel imports raised prices for low-income
consumers. When it comes to using protection to help revitalize do-
mestic industries, the United States has been there, done that. It
didn't work.
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Douglas A. Irwin
BAD BARRIERS
Today, the prospect that import restrictions can help domestic produ
ers is even dimmer than it was in the 1980s. That's because firms
engaged in international trade now form part of intricate global supply
chains. About half of all U.S. imports consist of intermediate goods,
such as factory equipment, parts and components, and raw materials.
Many U.S. companies depend on imported intermediate goods in
their production process or sell their outputs to other firms around
the world that use them as inputs. As a result, protectionist measures
today would prove much more disruptive than they did in the 1980s.
The implications for trade policy are enormous. Any import
restriction that helps some upstream producers by raising the prices
of the goods they sell will hurt downstream industries that use those
goods in production. If a tariff raises the price of steel to help U.S.
Steel, it will hurt steel consumers such as John Deere and Caterpillar
by raising their costs relative to those of foreign competitors. If a
quota keeps out imported sugar to boost domestic prices, it will raise
costs for the domestic confectionery industry. (Indeed, in 2002, Kraft
moved the production of Life Savers candy to Canada in response to
the high cost of sugar in the United States.) Typically, there are far
more workers in the downstream industries whose jobs will be
jeopardized by trade restrictions than workers in the upstream indus-
tries whose jobs might be saved by them. In an effort to help the
147,000 Americans employed in the steel industry, for example,
Washington may harm the 6.5 million Americans employed in steel-
using industries.
Even if trade protection can succeed in helping some domestic
producers at the expense of others, it is an illusion to think that it
will create many new manufacturing jobs, particularly for low-
skilled workers. In the United States, manufacturing has become
technologically sophisticated and involves many more engineers
and technicians than blue-collar workers on the assembly lines. The
clock cannot be turned back. Consider the steel industry: in 1980,
it took ten man-hours to produce a ton of steel; today it takes just
two. So boosting steel output will not create nearly as many jobs as
it would have in the past.
Even if a particular trade measure succeeds in terms of protecting
jobs in a specific sector, it will cost consumers dearly. When the
Obama administration imposed special duties on tires imported from
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The False Promise of Protectionism
China in 2009, the measure saved at most about 1,200 jobs- at a cost
to consumers, in the form of higher tire prices, of $900,000 per job.
And by pushing U.S. production toward the types of lower-quality
tires that the United States had been importing and away from the
high-quality tires that U.S. producers specialized in making, the tariff
froze American workers in low-end jobs at the expense of high-end
ones. No country can protect the jobs of the past without losing the
jobs of the future.
Another reason trade protection today makes even less sense than
it did three decades ago is that other countries are sure to retaliate in
a way that they did not before. Back
then, the United States demanded that
The mix of macroeconomic
other countries restrict their exports
to the United States. Because foreign policies Trump has promised
suppliers reduced their exports them- will likely enlarge , rather
selves to avoid U.S. punishment, they
than shrink, the trade deficit.
were able to charge much more for these
suddenly scarce goods and earn excep-
tionally high profits. Although countries such as Japan did not always
like restricting their exports, they did not strike back because the
United States was not imposing tariffs on them.
Today, such export restrictions would violate wto rules. If the
United States nonetheless arbitrarily imposed steep tariffs or other
trade restrictions on imports, other countries would inevitably retaliate
against U.S. exports. That would directly threaten U.S. farm and
factory workers. In a report released last year, the Department of
Commerce estimated that 11.5 million U.S. jobs were supported by
exports. Those jobs - which tend to pay above-average wages for
manufacturing- would be jeopardized if the United States started
slapping taxes on imports. Protectionism is a game that more than
one country can play.
Foreign retaliation could even occur if the measures were permis-
sible under wto rules. In the past, whenever the United States slapped
duties on Chinese imports under antidumping provisions allowed by
the wto, China's regulators would suddenly find that U.S. poultry or
pork was contaminated and had to be banned, its airlines would start
buying from Airbus instead of Boeing, or its food companies would
purchase Argentine soybeans and Australian wheat rather than the
American equivalents.
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Douglas A. Irwin
Finally, protectionism damages the U.S. economy even when no one
retaliates. Trade restrictions increase the price of imported goods-
not just for businesses that employ workers but for households, too.
The higher prices that these consumers pay for goods affected by
import restrictions reduce the amount of money they can spend
on other goods. To make matters worse, tariffs on imports also act as
a kind of regressive tax. Because poorer households tend to spend
proportionately more of their income on tradable goods such as food,
clothing, and footwear, they bear a disproportionate burden of import
restrictions. You wouldn't know it from listening to most politicians,
but low- and middle-income households benefit substantially more
from trade than do high-income households.
THE TRADE DEFICIT FALLACY
Import barriers are often proposed as a way to shrink the trade defi
a particular bugbear of Trump's. Yet it is far from clear that reducin
the trade deficit should be a policy priority. Unlike in the 1980s, wh
the current account deficit was growing rapidly, today, it has remain
stable for nearly a decade, at about two to three percent of gdp.
ports are not flooding into the United States; in fact, in 2016, t
value of U.S. imports from China fell by four percent from the prev
ous year. Even if one believes that closing the trade gap would bo
employment - and the consensus among economists is that it wo
not - past experience suggests that restricting imports alone wo
fail to narrow the deficit. The United States had a trade surplus w
it imposed the Smoot-Hawley Tariff, but exports fell in step wi
imports and the trade balance did not budge. In the 1980s, the tr
deficit continued to grow in spite of the Reagan administration's
tectionist measures.
The trade deficit is impervious to import restrictions, particularly
in an era of floating exchange rates, because it is determined not by
trade policies but by net capital flows into the United States. As econ-
omists have long emphasized, unless domestic savings rise (a good
thing) or national investment falls (a bad thing), the United States
will be a recipient of capital from abroad. Because the dollar is the
world's reserve currency, the closest thing to a safe asset in the global
financial system, foreign demand for dollar-denominated assets will
remain strong. The continued demand for safe assets means that other
countries will use some of their dollar earnings to buy U.S. assets
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The False Promise of Protectionism
instead of U.S. goods. This, in turn, means that the United States will
continue to buy more from other countries than they do from it.
Ironically, even though Trump has said that he wants to reduce the
trade deficit, the mix of macroeconomic policies he has promised will
likely enlarge, rather than shrink, it. Just as the Reagan administration
discovered, the combination of an expansionary fiscal policy (Trump
has promised lower taxes and greater infrastructure spending) and a
tighter monetary policy (the Federal Reserve's ongoing response to
falling unemployment) will cause the dollar to appreciate against other
currencies. In the 1980s, these policies dealt a painful blow to U.S.
companies that exported goods or competed against imports. The
result was a growing trade deficit and louder calls for protectionist
measures. Over the past three years, the dollar has already risen by
more than 25 percent compared with other currencies. If the Federal
Reserve continues to tighten monetary policy and the fiscal deficit
continues to grow, the trade deficit will likely grow, too, despite Trump's
trade policies.
LEVELING THE PLAYING FIELD
Even though the case against protectionism remains strong, that does
not mean that activist trade policies have no role to play. One thing
the Reagan administration did that the Trump administration could
usefully emulate was to undertake strong trade-enforcement measures.
Ronald Reagan always insisted that free trade required enforcing the
rules. As he put it, "When governments assist their exporters in ways
that violate international laws, then the playing field is no longer level,
and there is no longer free trade." That's why his administration pursued
trade agreements: to establish rules to constrain unfair policies. And yet
to reach such agreements, it is sometimes necessary to threaten higher
trade barriers. Supporters of free trade often object to such tactics, but
even Adam Smith argued that it might be worthwhile for a country to
threaten to close its market if the move brought about a change in foreign
behavior. Although the Obama administration filed many new cases
involving specific products and specific countries with the wto, such a
piecemeal approach falls short of addressing a real and growing problem:
whether international competition between private domestic firms and
foreign state-owned or state-supported firms can ever truly be fair.
The problem is most acute when it comes to China. China's state
banks routinely engage in generous and unprofitable lending that leads
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Douglas A. Irwin
to excess capacity in various industries, such as steel. China produces
half of the world's steel, and as its economy has slowed, massive excess
capacity has built up in that sector. In a market system, unneeded
plants would shut down. But in China, the visible hand of the state is
at work, as government-owned banks prop up uneconomic production
capacity with cheap credit. China then dumps its surplus steel on
other countries, where calls for protectionism grow.
Free-trade supporters are of two minds about foreign subsidies. On
the one hand, these subsidies reduce the price paid by U.S. consum-
ers, who should send a thank-you note to foreign taxpayers for their
generosity. On the other hand, foreign subsidies distort markets in a
way that is costly not only to the subsidizing country but also to other
countries. In the countries importing the subsidized goods, plants are
idled and workers are laid off- adjustment costs that the subsidizing
country avoids. A political backlash can result: when foreign subsidies
harm an important domestic industry, free trade gets a bad name and
becomes a harder sell at home. As a result, the United States has
tended to err on the side of opposing foreign subsidies. It has, for
example, attacked Europe's agricultural subsidies as detrimental to
American farmers and its subsidies to Airbus as a threat to Boeing,
and it has sought agreements to rein in both.
So how should the United States respond to, for example, Chinese
steel subsidies? Imposing antidumping duties is not the answer, since
they would fail to solve the underlying problem of excess capacity
and would punish steel-consuming industries in the United States.
Paradoxically, however, threatening reprisals of some sort may be the
answer; politely asking China to cut back its steel subsidies would
accomplish nothing. Confronting unfair trade practices with the
threat of retaliation is not protectionism in the usual sense. Instead, it
represents an attempt to free world markets from distortions. In order
to return trade to a market basis, Washington may have to threaten
trade sanctions, some of which might have to be carried out for the
threats to gain credibility. This process will no doubt be disruptive
and controversial, but if handled skillfully, the end result could make
it worthwhile.
Once again, the 1980s offers useful lessons. In 1985, Reagan used
the power granted to him under a provision of U.S. trade law known
as Section 301 to attack unfair foreign trade practices, such as the
barring of U.S. products from certain markets. Although the U.S.
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The False Promise of Protectionism
action prompted bitter foreign protests, Arthur Dunkel, the Swiss
director general of the General Agreement on Tariffs and Trade (the
predecessor to the wto), later admitted that it was one of the best
things the United States had ever done for the multilateral trading
system: it helped unite the world behind an effort to strengthen the
rules-based system in the 1986-94 Uruguay Round of international
trade negotiations. The wto's dispute-settlement system has proved
remarkably successful and should be supported, but it may not be
capable of handling every type of trade disagreement.
A border adjustment tax is another policy currently under consid-
eration that is sometimes labeled as protectionist but need not be.
Republicans in the House of Representatives are pushing a major tax
reform package that would change the way corporations are taxed.
Instead of being based on where goods are produced, the tax would be
applied on the basis of where goods end up. The tax would also involve
a border adjustment, meaning that it would not be imposed on U.S.
exports (which are taxed in other countries) but it would apply to all
imports. In essence, the tax burden would shift from goods produced
in the United States to goods consumed in the United States.
Such measures are standard practice for countries that have value-
added taxes and wish to equalize the tax treatment between domestic
and foreign goods, and they are consistent with wto rules. Whether
the particular border adjustment tax that Congress is considering now
conforms to wto rules remains an open question. Still, the principle
remains: a border adjustment tax is not protectionist if it does not
discriminate in favor of U.S. producers and instead simply ensures
that the same tax is imposed on all sellers in the U.S. market, regard-
less of where their goods are produced.
THE FUTURE OF FREE TRADE
Trump's "America first" trade rhetoric has sparked fears in foreign
capitals of a coming trade war. Economists of all political stripes
remain deeply skeptical that the protectionist measures the president
discussed during the campaign will spur a renaissance of manufacturing
production or do much to boost employment.
Yet Trump's pronouncements on trade are not just economically
problematic; they also raise troubling questions about the United States'
place in the world. A turn inward would mean abandoning global
leadership, threatening the country's economic and political interests.
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Douglas A. Irwin
Already, the abrupt termination of the tpp has stoked fears of a
U.S. retreat from Asia. Trump's saber rattling with Mexico has led
to a growing anti- American backlash there. Just consider what happened
in Canada after the United States imposed the Smoot-Hawley Tariff.
The pro-American, pro-free-trade Liberal government lost power
to the protectionist Conservative Party, which promptly retaliated
against U.S. exports. In Mexico, the last thing the United States
needs is to inadvertently give rise to an anti-American president who
returns to economic nationalism and seeks common cause with leftist
governments in Cuba and Venezuela.
There is a charitable view of Trump's threats to impose trade barriers,
however: that they represent a negotiating tactic to seek new agree-
ments that would scale back other countries' distorting policies. In a
January interview with The New York Times, Trump called himself "a
free trader" but added, "It's got to be reasonably fair." Likewise, the
administration has announced that it wants to replace the tpp with a
series of bilateral agreements, although it's not clear why a dozen
bilateral agreements would prove superior to one regional agreement.
Unfortunately, most of what Trump has said to date suggests that
he is interested in protectionism for protectionism's sake. He seems to
view international trade as a zero-sum game, in which one country
wins and another loses, with the trade balance being the scorecard.
"We will follow two simple rules: Buy American and hire American,"
he said in his inaugural address. But if every country adopted a similar
pledge, international trade would shrivel up.
Lessons from the past, such as the trade disaster of the 1930s, suggest
that protectionism begets protectionism. Indeed, a poll released in
February found that 58 percent of Canadians want their government
to fight a trade war if the United States imposes tariffs on Canadian
goods. History also reveals that trade barriers are easy to impose and
hard to remove. And it can take decades to repair the damage.®
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